If on sale of a residential house (held for at least two years), the taxpayer makes a profit, then such profit is treated as a long term capital gain (LTCG).

In the case decided by the ITAT, Amit Parekh, the taxpayer, had claimed capital gains tax exemption of Rs 59 lakh under provisions of section 54.

MUMBAI: The Kolkata bench of the Income-tax Appellate Tribunal (ITAT) has held that investment-linked capital gains tax exemption, which is available on purchase of a new house, cannot be denied merely because the taxpayer has taken a housing loan.

Capital gains are taxable under the Income-tax (I-T) Act. If on sale of a residential house (held for at least two years), the taxpayer makes a profit, then such profit is treated as a long term capital gain (LTCG). This gain is taxable at 20% with an adjustment for inflation, referred to as indexation benefit.

Section 54 of the I-T Act provides for investment-linked capital gains tax exemption. If an investment is made in another house in India, within the stipulated period of time, then the ‘cost of the new house’ is deducted and only the balance component of the LTCGs is taxable.

Such deduction results in a lower I-T outgo. Thus, if the amount of the capital gain is equal to or less than the cost of the new house, the entire sum of LTCG is not taxable.

The new house needs to be purchased either within one year prior to or two years from the date of sale of the old house. This tax benefit is also available if the taxpayer, within three years after the date of sale of the old house, constructs a new residential house.

In the case decided by the ITAT on April 4, Amit Parekh, the taxpayer, had claimed capital gains tax exemption of Rs 59 lakh under provisions of section 54. During tax assessment, the I-T officer noted that Parekh had obtained a housing loan of Rs 82 lakh from ICICI Bank and invested only Rs 9.37 lakh in the new house out of the capital gains.

The I-T officer held that the taxpayer had not adhered to the spirit of the section and he allowed the claim only to the extent of Rs 9.37 lakh. The I-T officer added back a sum of Rs 49.7 lakh (Rs 59 lakh minus Rs 9.37 lakh) to the taxpayer’s income, which would increase Parekh’s I-T liability.

The I-T litigation finally reached the doorsteps of the ITAT, which adjudicates I-T disputes.

The tax tribunal noted that the I-T authorities had not disputed the fact that cost of the new residential house was more than the capital gains. Further, post the sale of the old house, the new residential house was purchased within the time stipulated in the I-T Act. Thus, merely because the taxpayer had availed of a housing loan from the bank, his claim for exemption under section 54 could not be denied, held the ITAT. In reaching its decision, the ITAT also relied on past orders of a few high courts.

Gautam Nayak, tax partner at CNK & Associates, a firm of chartered accountants said: “There is no identity of funds required for claim of exemption. Section 54 recognises the fungibility of funds. In fact, it even permits purchase of a new residential house up to one year prior to sale of the old residential house, where obviously the same funds from the sale could not have been used.”

However, taxpayers need to ensure that they adhere to the timelines for purchase or construction of the new house.